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Double taxation

Posted onApril 22, 2015

It’s hard to keep one’s emotion in check when you read articles with arguments that fly in the face of the logic and fairness of our financial system. While our neighbours, New Zealand, have taught us a good lesson on how to run a country, it seems our politicians can’t help themselves in fixing a problem they ALL created.

So now that we have this big problem, let’s fix it by overhauling our taxation system. Sounds sensible but what are the politicians suggesting? Last year’s Financial System Inquiry led by ex CBA boss David Murray and others including professional director Caroyln Hewson, have called into question certain areas of our taxation system.

Our superannuation system is claimed is be far too generous. Carolyn Hewson refers to it as “a very tax-effective savings scheme for the rich”. Suffice to say many people don’t see super in this light. It is a forced savings mechanism which has commendable intentions. The constant tinkering over the years has led to the distortions now being highlighted.

Then there is the issue of dividend imputation, a policy introduced 28 years ago to prevent double taxation of corporate profits by allocating franking credits to shareholders equivalent to the value of tax already paid. We discussed the merits of dividend imputation in our March 2014 Quarterly Newsletter.

Murray and Hewson now see issues with dividend imputation. Somehow its original intentions no longer apply. Hewson notes:

“The world has changed. We are a much more open economy. The global capital markets see great free flow of capital. The benefit of lowering the cost of equity capital (through dividend imputation) in Australia has fallen from where it was in 1987. Dividend imputation acts as a subsidy to domestic equity holders and is another source of pressure for the deficit. It also leads to bias for Australian super funds to invest in equity over debt. Mutuals can’t distribute franking credits so they have higher cost of capital.”

She noted further that removing the credit could also address the concentration of Australian share market on the mining and banking sectors, where the majority of companies distribute fully franked dividends.

It’s hard to know where to start when you’re hit with so many inconsistencies. Dividend imputation is now a “subsidy to domestic equity holders”, yet it aims to remove double taxation, so how can it be a subsidy?” Then there is a “bias for Australian super funds to invest in equity over debt.” Attracting more capital is not the issue, there is an abundance. Capital will flow where the investment makes economic sense be it equity or debt.

Mutual don’t have a higher cost of capital, they just don’t have the same structure as those with an equity base and, importantly, are not profit driven. They have an entirely different agenda. They work for their members rather than their shareholders.

Why is removing double taxation such a hard concept to grasp? That is what dividend imputation achieves. It provides a credit to shareholders, because the tax has already been paid by the company. The real distortion would be the removal of dividend imputation rather than the illogical argument now being put forward by the likes of Murray and Hewson.

If we are going to have a real debate about fairness, tax subsidies and the long list of inequalities let’s start at the gravy train that is a politician’s life. Unlike your average worker who is subjected to all sorts of rules and age requirements on how and when superannuation can be accessed, politicians operate under another more generous set of rules. Sit as a member for a minimum of eight years and bingo, you’re entitled to a pension for life, starting at a minimum of 50% of gross salary. It can be received either as a lump sum or annual pension and even though the rules were changed in 2004, an MP can still get his hands on the money by age 55.

It certainly isn’t a topic that gets much air play but the fact that we have a Future Fund that is dedicated to meeting the Government’s future liabilities for the payment of superannuation to retired civil servants of the Australian Public Service probably says enough.

Calls for tax reform are noble but subject to political hijack. Those advocating change, especially those championing for the removal of dividend imputation, are hard to rationalise. Because quite simply its sole aim is to eliminate the double taxation of corporate profits. Anything else is just another tax dressed up and sold to us as urgent reform.